In my last post, I shared the news that the MPC keeps no minutes of its meetings. I had pondered whether there would be any gain in trying to use the Freedom of Information Act to force the Bank to make public more information, but naturally, they’d ensured this couldn’t happen:

The Bank is designated as a public authority and falls within scope of the Act except in respect of certain excluded functions which are specified as:

monetary policy

financial operations intended to support financial institutions for the purposes of maintaining stability

the provision of private banking services and related services

In translation, we are not allowed to know how they make decisions on monetary policy, nor are we are allowed to know about any bailouts or special arrangements made to keep banks afloat. We are being deliberately kept in the dark.

News to light the fires of the paranoid and conspiracy theorists out there:

The Bank of England’s Monetary Policy Committee (MPC), the group which decides on interest rates each month, keeps no minutes of their meetings. We’ve argued on this blog that the setting of interest rates by a central body has a devastating impact on the economy – this is the view held by economists of the so-called “Austrian school”. Keynesians also acknowledge the importance of interest rates on the economy, though they argue that central banks should be setting them “correctly” to respond to market conditions. Such a key job should be done openly and transparently, rather than behind closed doors.

No only does the Federal Reserve needs auditing – so does the MPC! What do they actually base their decisions on?

Many central banks now have “inflation targets” that they are required to meet, and such targets are set by the government. For the Bank of England, this target is 2%, and is based on the Consumer Price Index (CPI). Some central banks have other legally set targets, such as employment. In the case of the BoE, it has set its own employment targets but these are not legally binding.

The inflation target of 2% is expressed in terms of an annual rate of inflation based on the Consumer Prices Index (CPI). The remit is not to achieve the lowest possible inflation rate. Inflation below the target of 2% is judged to be just as bad as inflation above the target. The inflation target is therefore symmetrical.

If the target is missed by more than 1 percentage point on either side – i.e. if the annual rate of CPI inflation is more than 3% or less than 1% – the Governor of the Bank must write an open letter to the Chancellor explaining the reasons why inflation has increased or fallen to such an extent and what the Bank proposes to do to ensure inflation comes back to the target.

This means that the Bank is legally required to do all within its power to ensure that prices rise by 2% a year. Its important to note that this target is not that it must increase the money supply by 2% a year, but that prices must rise by 2% a year. With all the current talk of a “cost of living crisis”, we ought to examine the Bank’s role in causing that crisis. This is gradually making millions of people poorer. Pensioners, and those on fixed incomes are hardest hit. Not everyone is lucky enough to get a pay rise, and those who do often get pitiful raises that are less than CPI. Why is it the official policy of our central bank to make millions of people worse off each year?

Of course, the CPI leaves out key aspects of people’s spending – the big ones being rent and mortgage payments. RPI, which includes these, tends to be higher than CPI each year. So that 2% figure in the CPI is likely under-reporting the true rise in prices each year. Over the past decade, excepting the time of the financial crash in 2009, RPI was around 1.2 percentage points higher than CPI.

There is a persistent myth amongst Keynesians and monetarists (and clearly the BoE) that deflation is something to fear – and so we must prop up the economy with at least some inflation. One of the arguments put forward regarding the dangers of deflation is that consumers will put off purchases, waiting for tomorrow when the price will be lower. To some degree, this is true. But as consumers we do not wait forever – just witness the success of the computer industry. However, let’s accept the argument for the moment. If this is true, then we can make a similar statement about inflation. Sellers of goods will wait till tomorrow to sell, since prices will be higher – and therefore nothing will ever get sold! Again, sellers do take such things into account, but just like the consumers, sellers want to sell their goods eventually. Curiously enough, those arguing against deflation in this way never make the related argument regarding inflation.

Prices frequently fall, or even plunge in recessions, but the cause and affect needs to be established correctly. The falling prices are a symptom of the recession, not the cause. For more of my thoughts on this, I suggest reading this previous post.

Earlier in the post I asked “Why is it the official policy of our central bank to make millions of people worse off each year?”. Part is the current economic orthodoxy which fears deflation (apoplithorismosphobia for anyone who loves such daft words).

We can’t just blame economists, however. This constant inflation benefits powerful groups in society – and let’s face it, they have more leverage than most academics. As I discussed recently, low interest rates and quantitative easing help to push up share prices. Investors love it! And not just share prices – all sorts of assets not mentioned in the CPI or RPI tend to rise when central banks start easing the money supply. House prices have more than doubled in the past 10 years. And let’s not forget the politicians themselves, who are quite happy to keep the printing presses going to help pay off the massive pile of debt they ran up at our expense.

Upon observing an airplane fly, one doesn’t assume that apparently the law of gravity doesn’t apply to metal plane-shaped things. Rather, you intelligently realize instead that other forces must be in operation on the plane. Similarly, we should not assume that just because one doesn’t always see an observable, countable diminution in people employed related to the minimum wage in every specialized situation an academic looks for it, that on the margins the law of supply and demand don’t work on labor and that raising the minimum wage is costless in terms of jobs.

The ups and downs of the stock market is reported daily, hourly – continuously on some news channels. Stock markets are seen as indicators of the overall economy. A rising stock market means prosperity, and a falling stock market spells bad news. But is the stock market actually a good proxy for the health of the economy?

Stock markets of course only include a subset of companies in the country, and so already we are assuming the health of the largest companies is equivalent to the state of the overall economy. The FTSE 100 is quite obvious. The Dow Jones in the US only has 30 companies listed – perhaps a surprise for such a closely monitored index. For now, let’s assume that by using a variety of indices (eg NASDAQ, S&P 500 in the US) we can get a decent enough proxy in terms of the companies that are listed.

Prices act as signals of supply and demand – one reason why we should always be hesitant to control them. Prices provide information – information that you could not get easily otherwise. You may not know that bad weather has reduced the supply of oranges in Spain, but you can see that oranges have gone up in price and so you’ll buy less – reducing the pressure on the reduced supply.

In a similar way, stock prices reflect the supply and demand for shares in a particular company. Unfortunately the demand for shares is often artificially boosted by cheap money provided by central banks, and prices rise more than would be expected by the fundamentals. While inflation is supposedly under control according to the CPI, inflation in assets such as stocks and real estate is much higher. The cheap money from central banks is not going into consumers pockets, and hence CPI is not rising so much. Instead, the cheap money is lower borrowing costs for property buyers and stock market investors alike, and hence the inflation can be seen in these markets instead. If all assets were included in the inflation index, we’d see a very different picture.

Such a scenario is what took place during the 1920s, and hence what has led so many economists to reject the notion that the crash of 1929 was caused by an inflationary boom. Where’s the inflation they ask? CPI was stable, if not falling during the 20s. Same as now, there was significant inflation in stock prices and real estate – at a time when the Federal Reserve was increasing the money supply. The new money ends up somewhere – its just that the official statistics are good at hiding it. When we look at the broader economic picture, the bubbles blown by the new money become much clearer.

So far, all very theoretical. Yet evidence for this distortion can currently be seen in the US and the UK . In both countries, stock markets are reaching new highs (beating the high prior to the financial crisis) while unemployment remains stubbornly above rates seen before the crash. There is a clear disparity between the two. Even more starkly, in Venezuela, the stock market is rising rapidly amid soaring inflation, while there are shortages of toilet paper and the government continues its attempt to defy reality by imposing price controls and seizing businesses. The rising stock market is completely detached from the real nature of the economy.

This certainly benefits anyone holding stocks, but it’s not helping anyone else. It’s another way that central banks are helping the rich at the expense of the poor. Some may believe a rising stock market brings confidence, and economic prospects will improve as a result. However, if the stock market is only reflecting the influx of cheap money rather than the reality of the economy, it fails to be a signal and instead becomes meaningless. Blowing a stock bubble will only end one way. Central banks would do well to heed the lessons of the past, and stop blowing new bubbles in order to save us from the last one that burst.

One of the notably sinister traits of a central bank is the act of collaboration (read, collusion) between countries: they can’t exist for long without it. It is therefore not surprising that when Ben Bernanke issued a statement linking future monetary policy decisions to unemployment the new Governor of the Bank of England followed suit with what is called “forward guidance” (in English, guidance for the future). So what is it?

You can read the full thing here but in brief: the Bank Rate will be held at 0.5% and asset purchasing will continue, at the MPC’s discretion, while unemployment remains above 7%. This is subject to 1) expectations of inflation in two years time remaining within 0.5% above the 2% target 2) inflation during the next two years remaining “sufficiently anchored” 3) the Financial Policy Committee (in charge of deciding if something poses a systemic risk to the financial markets) deciding if monetary policy is too loose to contain.

As an aside, the guidance is revealing. It shows that the Bank admit that their monetary policy stokes inflation (despite all common sense, it is often disputed still that loose monetary policy causes inflation); that systemic risks are caused by central banks and not derivative-toting yuppies.

The recent policy changes by both the Fed and the Bank (and probably, maybe a few years from now, the ECB) harkens back to the nightmare inflation in the Weimar Republic. In Adam Ferguson’s very detailed description of the horrors of a collapse in fiat currency in When Money Dies, he describes how the printing press turned at an accelerating rate to keep employment up. Of course, it was unsustainable and it ended in a disastrous collapse in financial markets and the impoverishment of millions of people. (While enriching many of the ‘1%’ – sound familar?)

The only blessing found in forward guidance is that the Bank has partially limited the damage it can do, but this should not be a comfort. Linking money printing to unemployment rates ruined Germany and it will ruin us.

There is no means of avoiding a final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as a result of a voluntary abandonment of further credit expansion or later as a final and total catastrophe of the currency system involved.

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"Like every other tax, inflation acts to determine the individual and
business policies we are all forced to follow. It discourages all prudence
and thrift. It encourages squandering, gambling, reckless waste
of all kinds. It often makes it more profitable to speculate than to produce.
It tears apart the whole fabric of stable economic relationships.
Its inexcusable injustices drive men toward desperate remedies. It
plants the seeds of fascism and communism. It leads men to demand
totalitarian controls. It ends invariably in bitter disillusion and collapse."

Henry Hazlitt, Economics in One Lesson

"But who can enforce honest weights and measures
regarding money if the enforcers—politicians and rulers—
are profiting from the cheating? That is the problem
that no society has ever been able to solve. Government
money eventually becomes corrupt money."

Gary North, Honest Money

"As a result I am more convinced than ever that if we ever again are going to have a decent money, it will not come from government: it will be issued by private enterprise, because providing the public with good money which it can trust and use can not only be an extremely profitable business; it imposes on the issuer a discipline to which the government has never been and cannot be subject. It is a business which competing enterprise can maintain only if it gives the public as good a money as anybody else."

FA Hayek, A Free-Market Monetary System

"By a continuous process of inflation, governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens. By this method, they not only confiscate, but they confiscate arbitrarily; and while the process impoverishes many, it actually enriches some."